How do you protect your EIS or SEIS investment to avoid being taken for a ride? It is easy to get swept away by the generous tax reliefs and invest funds without protecting your investment. We act for investors and recommend safeguards.
It is a difficult balance between ensuring your investment:
Based on past experience, we have prepared a checklist of the more important protections for any investor and in particular EIS or SEIS investors. These protections should be reflected in the investment agreement, shareholders agreement or the company’s articles of association.
Often the business’ founder(s) desire a “no-strings” investment. So there is a risk the founders might pay themselves an excessive salary, which ruins the business, or take their newly acquired knowledge and expertise and set up a rival company of which they own 100%. Hence SEIS and EIS investors should require:
Minority shareholders do have rights if the directors act in breach of their fiduciary duties. However, enforcing those rights will be much easier if the investment agreement contains the provisions they may need to rely upon if disputes arise.
SEIS and EIS investors should ensure they won’t end up holding the company with a total stranger following a sale of the business. So investors should have:
Anti-dilution is a tricky area. SEIS and EIS investors are usually involved at an early stage. Often additional investment rounds are needed to see the company really succeed. However, the new shares will “dilute” existing shareholding. Admittedly, the EIS investors will wind up with a smaller slice of a larger pie, which contains the same number of calories.
A good feature of the SEIS/EIS legislation is that subsequent fund raisings at higher values do not prejudice the SEIS/EIS status of existing investments. Investors generally assert one of the following two options, by holding:
The directors usually determine the day-to-day management issues. However, SEIS and EIS investors may decide that certain matters require their approval. This “wish-list” requires consideration. A lengthy “wish-list” of matters requiring investor approval might hamstring the company. Nevertheless, such matters could include:
Investors often request a statement from the company that the company:
The company and investors should work together to ensure their SEIS or EIS investment does not fall outside the legislation. One common example:
If you are a paid employee, you won’t get EIS relief. However, business angel investors are permitted to serve as unpaid directors. SEIS investors can be an executive director. However, it is unlikely the company can afford a high salary. Investor Relief is now a possibility for non-executives and angles which will provide them with the opportunity of entrepreneurs’ relief on the gain made on disposal. We weigh up the pros and cons of SEIS/EIS v Investor Relief.
The best way to protect your investment is probably to stay involved as a director and steer the company in the right direction. The voting of directors can be weighted, if necessary, to provide additional protection, but the weighting would need to be enshrined in the articles or shareholders agreement.